The rupee has recovered sharply following the RBI's announcement.
RBI has record forex reserves, but why is rupee still not out of the woods?The rupee gained a stunning 1% at the start of trading on Monday after the Reserve Bank of India (RBI) eased pressure on the currency by shifting oil companies' dollar purchases away from the spot market and taking steps to curb corporate demand for forward dollars.The rupee began Monday’s session at 95.76 against the US dollar, compared with its Friday closing level of 96.73.In fact, it emerged as one of Asia's strongest-performing currencies, even as most regional currencies moved within a narrow range. Despite Monday's sharp rise, the rupee has lost 6.6% against the dollar so far this year, according to a Reuters report.Also Read | RBI has record forex reserves, but why is rupee still not out of the woods?
RBI announces measures for rupee
On Saturday, the RBI announced a set of measures targeting two major sources of pressure on the rupee.
These include sustained dollar purchases by oil marketing companies amid elevated crude prices and demand from corporates looking to protect themselves against further currency depreciation.Fears of additional weakness in the rupee had prompted importers to increase their purchases of forward dollars to shield themselves from potentially higher costs in the future.However, the increased demand for hedging also put further pressure on the currency.
This created a cycle in which expectations of depreciation encouraged more hedging, adding to the rupee's weakness and reinforcing those expectations.Among the measures announced by the RBI were a ban on companies rebooking cancelled rupee-linked derivatives, a reduction in the threshold for transactions that do not have an underlying exposure, and a requirement for banks to maintain a 20% cash reserve against certain foreign-exchange contracts.
These steps could make hedging against a weaker rupee more expensive.Citi said in a note that the package increases the immediate cost of trades aimed at benefiting from rupee depreciation.Bankers clarified that the restrictions do not cover every foreign-exchange transaction and apply only to current account transactions.The 20% cash requirement also excludes companies hedging external commercial borrowings and foreign portfolio investors seeking to hedge their investments in India.The rupee has recovered sharply following the RBI's announcement, but analysts believe the durability of the gains will depend on whether the underlying pressures on the currency begin to ease."Beyond the initial impact, the rupee’s trajectory will continue to be shaped by crude oil prices, foreign portfolio flows and the broader direction of the US dollar," Societe Generale said in a note.